Rate and repayment are only two factors to consider when choosing a property investment loan and the wrong loan structure could cost hundreds of thousands of dollars over five to 10 years.
To avoid this, it’s important to use a specialist mortgage broker who will ensure loan structure, type and features are tailored to your current and future predicted circumstances.
There’s so much more to getting finance than just chasing the cheapest interest rate and fees. Some common and potentially costly pitfalls include not having loan portability, cross collateralising loans, incorrect ownership structure, fixing a rate when it should be variable, or fixing it for too long.
When we build our clients a property investment strategy we work closely with financial advisors, accountants and solicitors to seamlessly provide an advisory board, so we are all on the same page and working towards to the same objectives.
For example, we don’t want your accountant looking only at short term goals such as this year’s tax return, to the detriment of the long term wealth creation masterplan.
Loan feature and finance structure insights:
Cross collateralisation:
Many banks by default will cross-collateralise. This means they use more than one property as security for a loan giving them a stronger overall position. However this practice ties you to one lender and their policies. If one property rises in value but another goes down it can have a major impact on the amount of money you have access to. The resulting lost opportunity cost can be hundreds of thousands.
For example, if you have a home in Sydney and an investment property in another state. Assume the investment property goes up by 15 per cent and your Sydney home goes down by 10 per cent – which has happened to a lot of Sydney suburbs in the last 12 months. If you had planned to sell the interstate investment property to buy in the next growth market, you might get an unpleasant surprise when your bank tells you that you can’t have all the money from the sale of your investment. Effectively the negative equity can counteract the positive equity gains, and you are left with the difference.
Not only can this substantially affect your overall wealth creation strategy – as you now might not be able to buy that investment property for another few years – it could have been easily avoided if you used multiple banks or knew how to check if you were cross collaterised. This is just one reason why a good finance structure is crucial to investing safely in property.
Loan portability:
Loan portability describes the ability to transfer a loan between one property and another when selling and is a critically important feature that many banks don’t offer.
This especially important when we consider that borrowing capacity has reduced by up to 40 per cent in recent years.
If you are selling a $3 million house in Sydney (that you purchased for $2 million eight years ago with a loan of $1.5 million) you may not qualify for the same loan in today’s lending environment with the same income and living situation.
However, if you have loan portability you can sell your property and transfer your existing loan to the new property, leaving all loans as they are.
Getting more than one valuation on existing property:
Did you know that valuations can differ from 5 to 20 per cent on the same property?
If you own a $2 million property on Sydney’s northern beaches it could be worth $1.9 million to one lender and $2.2 million to another. Therefore, from a due diligence point of view we always conduct two or three valuations on existing properties.
Clearly if we obtain a valuation that is $150k better we will use that one, overlaying that lender’s policy to ensure it fits our client’s borrowing capacity and strategy. We will also always aim to secure the best possible interest rate for our client.
However, if the extra $150k allows a client to purchase another $700k property that grows at 6 per cent per annum, that’s $42k per year in growth the client might not have otherwise realised.
Interest rate should be a secondary consideration to better valuations and a more favorable lending policy.
Offset accounts:
“Compound interest is the 8th wonder of the world. He who understands it earns it, he who doesn’t pays it.” – Albert Einstein
Interest on loans is calculated daily and charged monthly. Choosing a loan with an offset account (a day-to-day transaction account that also reduces your interest charges) can save you thousands of dollars per year, compounded, according to Raj.
We generally recommend two offset accounts, one personal and one investment. Usually your salary should be banked into your personal offset account and it is linked to the correct loan per your lending strategy. We will advise clients to have rent paid into, and loan repayments made from their investment offset account. This also makes banking easy, and time is money.
There are different versions of offset accounts. Some banks allow for one, some banks allow for several and some require specific ownership structure. Seek specialist advice to ensure you choose the right one.
Redraw facility:
A redraw facility enables you to take your extra repayments back out and use them for other purposes – such as a deposit on another investment property.
An offset account is preferred but sometimes we recommend clients use the redraw when the chosen lender – based on other factors – doesn’t have a seamless offset account function.
A good mortgage broker will look at your overarching strategy, other loan features and consider possible future plans to enable you to make a more informed decision, rather than choosing based only on rate and repayment.
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